Friday, 21 November 2014

The main factors that account for economic growth are increases in the
workforce or in the amount of productive capital in the economy. A far smaller
contribution is made by improvement in productivity as a result of innovation,
which is known as Total Factor Productivity.

Since mid-2009 the British economy has grown. But this is wholly accounted
for by growth in the workforce, which made up of both an increase in the number
of people in work and in the number of hours they work. As a result the average
person in work cannot experience any improvement in living standards as economic
growth is simply made up of more people working longer hours. Worse, those on
very high pay, senior executives and shareholders, have claimed any benefits of
that moderate growth in the British economy. Average real pay continues to
decline.

The missing element in Osborne's so-called recovery has been growth in
productive investment. The ONS chart below shows the level of Net Fixed Capital
Formation in the British economy from 1999 to 2013 as a proportion of GDP.
Usually Gross Fixed Capital Formation (GFCF) is the main indicator of investment
that is discussed. But Net Fixed Capital Formation deducts the capital consumed
in the production process itself. While GFCF includes replacement of machine
tools, or software and repairs to a factory, NFCF is a measure of only the net
addition to new machine tools, software or factories after any replacements have
been deducted.

NFCF therefore measures the addition to the accumulated stock of
capital. (Unfortunately it also mixes together productive capital, such as
machinery, with unproductive capital such as housing, but this failing cannot be
addressed in this piece). The chart also shows the contribution to NFCF from
each sector, non-financial firms, financial firms, government and households.

Fig. 1 Net Fixed Capital Formation, % GDP

Source: ONS

The data is worth examining in detail. The net contribution of financial
firms can be disregarded as it is negligible in all cases. But it is also clear
that the contribution of non-financial corporations (NFCs), i.e. private
companies, has been far from overwhelming.

In most years before the crisis the net contribution from non-financial firms
was matched or surpassed by the contribution from households (and the non-profit
sector NIPISH). The strongest year for the net growth in the capital stock was
2004, when the greater role was played by government and non-financial firms
contributed just one quarter of the total growth. But this increase in
government spending encouraged the private sector and the following year saw an
increase in the contribution to NFCF by private firms. But from that point
onwards until 2009 government NFCF was once again reduced and in turn, with one
year time lag, companies duly cut their own level of investment. With a time
lag, companies also followed when government increased its investment again
after 2008. Yet non-financial firms never contributed as much as half of the net
growth in the capital stock in any year over the period.

Outlook

The coalition government has been claiming that it has overseen a revival of
the British economy, including business investment. But the total proportion of
NFCF is barely changed from the crisis year of 2008, along with the contribution
from non-financial firms. In reality, it was the modest increase in government
net investment in 2009 which rescued the economy and has been responsible for
well over half the growth in net investment since. Non-financial firms have
contributed less than a third of the NFCF over the same period. Yet the
Coalition cut the level of investment it inherited from Labour and has only
increased it modestly to avoid the political consequences of a renewed
recession.

Over the longer-term Britain has a very low level of net capital formation,
less than 2.5% of GDP at its recent high-point, which condemns the economy to
slow growth. Even among the Western economies that have experienced a decline in
growth rates over the medium term, Britain has had one of the lower levels of
NFCF. It is notable too that the US has among the weaker levels of net
investment growth since 2006, which belies notions about a US industrial
renaissance.

Fig. 2 Net Fixed Capital Formation in Selected Economies, % GDP

Source: ONS

Unfortunately, the Thatcherite and Reaganite notion of the ‘state getting out
of the way of the private sector’ still dominates thinking in most Western
economies. This turns reality on its head. Private firms are an important but
minor player in the growth of the net stock of capital. They are led by the
activity of the government. This was decisive during the crisis and there is no
prospect of a return even to previous levels of British growth if it is mainly
dependent on the contribution of private firms. The austerity consensus remains
that government must cut back while we await the decision of private firms to
increase their investment. This will condemn the economy to prolonged
stagnation.

Thursday, 6 November 2014

The source of the current crisis is the unwillingness of private firms to
invest. Instead, they are hoarding cash that could otherwise be invested. The
latest data shows that this cash hoard stood at £501.9 billion at the end of
2013. It has almost certainly risen since.

The latest ‘flow of funds’ data from the Office for National Statistics (ONS)
provide comprehensive data for the financial flows between each sector of the
economy. They show how the cash mountain has been created. Via the banks, these
data show how the incomes of firms (mainly profits) or of individuals (mainly
wages) can become savings and may be used for investment.

If a capitalist economy is functioning in the textbook manner, firms will
generate profits which they use for their own investment. Through bank borrowing
they will also be able to use the savings of private individuals to supplement
that investment. It is the supposedly efficient and large-scale way that this
takes place that gives the capitalist economy its particular power, and the
pre-eminence of the private sector within that, including the banks.

But this is not what is happening in the British economy. The ONS chart below
shows the savings and investment levels private non-financial firms (all private
corporations excluding banks, insurers and so on, or PNFCs). These are shown
from 1997 onwards as a proportion of GDP.

Fig.1 Net lending and investment of PNFCs as a proportion of GDP

Source: ONS

Over a prolonged period from 2001 to 2013 private firms in Britain have been
net savers. Far from borrowing from another sector such as households (or from
overseas, or government), private firms have been saving not borrowing. The peak
level of this net saving was 4.3% of GDP in 2011. The recent high-point for
firms’ borrowing was a not very high level of 2.8% of GDP in 2000. The
difference between those two levels is 7.1% of GDP. This is significantly
greater than the actual annual contraction in output during the recession and
entirely accounts for it.

At the same time private firms have been cutting their levels of investment.
Firms’ productive investment (Gross capital formation) peaked at 12.4% of GDP in
1998. It fell to 7% at the low-point of the recession in 2009, and the rebound
since has only been to 9.2% of GDP. This is actually below the level of capital
consumption in the economy (the capital consumed in the course of production).
As a result British firms are not net producers of capital.

It is the savings of private frims which have produced the cash mountain. The
growth of the cash hoard is shown in Fig.2 below both in terms of billions of
pounds and in propprtion to GDP.

Companies in Britain and in the Western economies generally are content to
retain or even increase high debt levels in order to fund share buybacks and
extraordinary boardroom pay. They are not prepared to invest even their own
profits, much less borrow to invest.

The cash hoard is directly related to profitability. Firms will not invest
while they do not anticipate sufficent returns on that investment. As a result,
the cash hoard will grow until they do.

Yet it is clear that the idea that ‘there is no money left’ for investment is
false. The money is simply in the hands of those who refuse to invest it. What
is required are measures that will wrest it from them in order to fund
investment.